Estonia: Currency Situation Under Close Watch

Washington, 24 October 1997 (RFE/RL) - Officials at the International Monetary Fund (IMF) and the World Bank are making no public comments as they closely watch Estonia's currency situation.

Yesterday's price drop of over 15 percent on the fledgling Tallinn stock exchange recalled to public attention recent cautions that Estonia was showing "danger signals" in its financial position.

World Bank Vice President for East and Central Europe and Central Asia, Johannes Linn, said following the Southeast Asian currency crisis of last month that Estonia was among nations with imbalances that needed to be dealing with its problems.

The danger signal Linn focused on is Estonia's current account deficit which ballooned to nearly $450 million in 1996 and was running at a slightly slower rate in the first three months of 1997, although it was still over $160 million.

A current account deficit by itself is not always all bad, Linn said, but added that there are serious problems for small economies like Estonia which try to keep their economies and capital markets open. This exposes them to major capital inflows -- foreign direct investment -- and if those inflows are not properly managed, they can throw a small economy into serious inbalance.

Linn's caution was echoed this week by the global investment firm Deutsche Morgan Grenfell which published a new statistical method to assess currency risks. The index showed other East and Central European nations with greater currency risks that Estonia, but IMF and World Bank officials focus more on Estonia because it is further along in its transformation to a market economy.

Linn said Estonia, along with the Czech Republic which has already had a currency crisis of its own, are now facing what he calls "a third generation" issue of how to manage where the public sector is largely in balance.

He said Estonian officials have to guard now against too much of their own success. He said so far they have been taking the proper measures to make sure that the inflow of capital goes to finance solid long-term investment and not short-term consumption.

There are, however, other problems which make Estonia's situation difficult. The Thursday drop on the Estonia stock market, which actually began two weeks ago, but accelerated when the rest of the world's stock exchanges followed Hong Kong's large fall, had its own additional causes.

First is the fact that there are so few buyers, with very little experience, that a dramatic drop caused small investors to start selling everything without selection.

This panic selling put strong pressure on the major traders on the market, Estonia's banks, which are presently experiencing a shortage of cash -- known as a liquidity crisis. This low liquidity could force the banks to sell additional shares simply to raise money. And that kind of selling, say experts, only pushes prices lower.

The head of the Estonian Central Bank's Financial Markets department, Valdur Laid, told the Baltic News Service that this "short-term insufficiency" will not damage the long term prospects of either the stock market or the Estonian currency.

"Such letting out of steam was even good for the market's health," he said. "It's unlikely that banks will have substantial difficulties because...revenue from stocks doesn't occupy an important place" in the banks' balance sheets.

Laid said some brokers in Finland and Sweden keep talking about a devaluation of the Estonian Kroon, but that under the currency board "there actually isn't any possibility for devaluation."

The central bank official also discounts the possibility of foreign investors suddenly pulling their money out, but that is one area on which IMF and World Bank officials are keeping an eye.